The regulatory and technological stars have aligned for the benefit of all as the move to real-time treasury operations promises to deliver unparalleled efficiencies and insights that banks and treasurers once only dreamt of.

Risk Management: Trade Credit Insurance

Advertisement

The European sovereign debt crisis is causing rates to rise for trade credit insurance, and demand is increasing—particularly in emerging markets.

Since the global financial crisis of 2007–2008,demand for trade credit insurance has been rising steadily. The insurance, which can be structured to help protect businesses, traders and financial institutions against the financial consequences of defaults, insolvencies and bankruptcies of their trading partners, has been a valuable tool for corporates in freeing up credit lines and facilitating international trade, particularly in emerging markets.

When trade credit claims spiked in 2008 and 2009, insurers tightened their underwriting. Loss ratios improved, and the market became more competitive. While that's good news on several fronts—in particular among large corporations seeking to expand trade and increase their receivables financing, traders with significant counterparty exposures, and banks looking for ways to safely grow their asset-based lending portfolios in an otherwise restrictive global credit environment—some storm clouds remain.

As the European sovereign debt crisis has unfolded, insurers report an uptick in notifications of overdue accounts in Europe, a potential precursor to claims. Not surprisingly, market conditions for trade credit coverage for risks there have begun to tighten. How much rates ultimately might rise and capacity wane depends on several variables. However, some insurers are already predicting double-digit rate increases for coverage in Europe this year. The most difficult types of credit risks to insure right now are those involving the retail sector, certain sectors within the shipping industry and all types of business in China, where the rapidly growing demand for coverage is outpacing supply.

However, coverage in many other emerging markets is readily available, and significant coverage arrangements are being completed. For example, global insurance broker Marsh teamed up with Zurich Insurance and eight other insurance companies at the end of 2011 on a breakthrough insurance program for International Financial Corporation that enables it to expand its global trade finance activities in emerging markets by more than $500 million. The program is designed to protect IFC against credit defaults by 50 banks located in more than 26 countries, including Russia, China, several other parts of Asia, as well as some countries in the Middle East and Africa.

ASIAN GROWTH

Outside of the European market, trade credit insurance companies have been in a growth mode. At Coface, trade credit exposures grew by more than 15% worldwide in 2011, and gross written premium rose 7.3%, according to Kerstin Braun, executive vice president, Coface North America. Richard Ariens, president of Atradius, says the company is growing in several regions—especially Asia, where multinational clients are increasing their use of trade credit insurance in step with their business growth and more Asian clients are buying the insurance.

Depending on their internal controls, businesses looking for creative ways to manage their trade credit exposures have some options in structuring their insurance: They can obtain coverage for their entire accounts receivable portfolio, for stronger individual companies within that portfolio, for trade in an individual country or with an individual trading partner. Although somewhat more difficult, it is also possible for a company to obtain insurance for trade with an individual company in a riskier emerging market, if that company is deemed a good credit risk.

TAILORED SOLUTIONS

Freely, Marsh: Large buyers of credit insurance are looking for tailored products

Andrew Perry, part of the Special Risks team at London brokerage Miller Insurance, sees a number of large corporations with "strong internal credit management" processes taking an "excess of loss approach" to their credit insurance programs, which back up their internal underwriting. Such insurance policies give firms that can retain some risk the ability to raise credit levels available to buyers of their products. At the same time, the insurance protects them against the financial consequences of a large loss, such as that involving default of multiple trading partners.

"One of the things that's changed in the last couple of years is that larger buyers of credit insurance are looking for more bespoke or tailored products," says Evan Freely, global leader of the political risk and trade credit practice at Marsh. He adds that insurance buyers are increasingly realizing that "certain insurers have more competencies in a specific industry or different regions of the world."

As a result, Marsh is discussing the use of regional trade credit policies with some of its larger multinational clients. A company might have trade credit insurance policies with different insurers for Asia and Latin America, for example. The broker also helps clients assess insurer strengths based on industry sector to find the best fit.

Freely sees another potential benefit for insurance buyers if any issues arise during a renewal or the insurance market starts to harden: "It may be good to have more than one relationship, so that you're not beholden to one carrier in the event of one unfortunate circumstance," he reasons.

Aside from the sovereign debt crisis in Europe, Corina Monaghan, vice president of the political risk practice at Aon Risk Solutions in New York, sees significant opportunities for banks using structured trade credit insurance, particularly in emerging markets: "There's a lot of good business being done outside Europe and it continues to grow."

Many international banks use structured trade credit insurance to expand their business with a single obligor or within a specific country, Monaghan explains. A bank may have a ceiling or cap on how much it can lend in a certain country or to a specific counterparty. The purchase of trade credit insurance frees the bank to extend its credit, at least incrementally, and go beyond the cap. The insurance can help banks grow their assets and conform to risk-weighted standards under Basel II and Basel III.

REGULATORY BARRIERS

Braun, Coface: Trade credit exposures worldwide grew in 2011

Although trade credit is helpful in many markets, it is not quite a panacea, and there is significant unrealized growth opportunity in certain countries.

China may be at a saturation point, and part of the issue with expanding available coverage is the inability of insurers to get adequate credit information on businesses there. In Brazil, a difficult tax regulatory structure has slowed the growth of the trade credit market. Despite enormous potential, India has regulatory barriers that are keeping global insurance companies at bay. And some insurers remain skittish about Russia from past loss experience. However, Braun observes that Coface remains active in Russia and sees its business growing in Brazil in spite of the challenges.

Looking ahead, the EC's Solvency II regulations for the insurance industry, scheduled for implementation in 2014, might have direct effects on monoline insurers, which dominate the trade credit marketplace. However, insurers and their trade groups have been engaging in dialogues with regulators, and their views on capital needs eventually may merge.